China pumps up the bubble-making machinery again

Back in August it looked like the Chinese government, concerned about rising prices for stocks and real estate, had decided to slow down bank lending.

Forget it. In September it was back to the races.

New bank lending climbed to $76 billion in September from $60 billion in August. That's a month to month increase of 26%.

With all that lending China's money supply (M2) rose at an annual rate of 29%.

Economists think that any increase in the money supply much above the rate of economic growth is inflationary. Economists expect China will report 9% growth when it announced GDP figures next week.

You do the math: China should be showing huge inflation.

But the country is showing negligible price inflation. Why isn't that huge increase in money supply causing run away inflation in China.

Four reasons, I think.

1. Because that huge increase in money supply isn't going into the hands of consumers who might bid up prices, but is going into loans to state-owned businesses (for the most part.)

2. Because from the state-owned businesses some of that loan money is going into new plants--which would increase demand for things like cement and machinery and would therefore be inflationary--but not a huge amount. Most of these companies are operating in industries that already have huge idle capacity so they're not rushing to build more.

3. Because the state -owned businesses are funneling their loan money into investments in the stock market or in real estate. Prices in those two asset markets are indeed climbing. As in the United States in the run up to the tech stock bubble in 2000 and to the housing bubble, sometimes there seems to be no measurable inflation because our inflation measures don't include asset prices.

4. Because the growth in China's domestic money supply is turning up as inflation in international commodity prices. The money from these bank loans that is going into the domestic economy is being spent on importing iron ore, coking coal, copper, and other basic materials. That's where the demand created by the run-away money supply is pushing up against demand constraints and sending prices higher.